Bond uncertainty lifts ‘unconstrained’ alts funds

Many advisers are willing to place a bet that fund managers are best suited to time the bond market, and mutual fund companies are happy to oblige.
Janus Capital Group Inc. Tuesday became the second firm this year to offer a new fixed-income fund that lets managers go anywhere, at any time, in search of the best returns bonds have to offer.
The fund, Janus Unconstrained Bond Fund (JUCAX), is without typical constraints that would prohibit managers from altering their exposure to different sectors or changing the sensitivity of the portfolios to interest rate fluctuation.
Denver-based Janus, with $174 billion in assets, is looking to the hot alternative category as it looks to stanch outflows in its mutual fund lineup. Last year, the firm watched $11.9 billion flow out of its funds, Morningstar Inc. estimated.
Fund managers for Janus can now create portfolios with a duration of up to eight years and as little as negative three years. Duration measures bond price sensitivity to changes in interest rates.
Many advisers think long duration portfolios could face trouble if the Federal Reserve’s decision to sunset its bond-buying program, known as quantitative easing, leads to rising interest rates. The Fed’s gradual withdrawal of the stimulus program, or taper, started in January.
At the moment, interest rates remain relatively low, challenging investors who already expected rates to be rising. The 10-year U.S. Treasury note yielded 2.527% midday Tuesday. That’s down from 3% in early January.
Unconstrained bond funds won billions in flows from investors over the last year. Nontraditional bonds were the fourth-fastest growing type of fund last month in the universe Morningstar tracks, and over the last year they’ve won $55 billion in flows. That category includes unconstrained funds.
By comparison, intermediate-term bond funds, a typical core fixed-income holding, saw moderate inflows this year after nearly $95.4 billion in redemptions in the year ended April 30.
Several managers have benefitted from the trend – including those who call themselves unconstrained and those who prefer other terminology but also enjoy broad “go-anywhere” mandates to adjust duration exposure dramatically.
Those funds include the BlackRock Strategic Income Opportunities Portfolio (BASIX), the JPMorgan Strategic Income Opportunities Fund (JSOAX) and the Goldman Sachs Strategic Income Fund (GSZAX).
Neuberger Berman Group launched its own fund, Neuberger Berman Unconstrained Bond Fund (NUBAX), in February.
“Investors are buying these funds on the expectation that fund managers will be tactical enough that when rates do rise, they’re going to swing their duration to negative,” said Josh Charney, an analyst for Morningstar. “The manager could get it wrong. Just because the manager has leeway to swing to negative duration, it’s not a given that he will.”
In an interview before Janus’ product was launched, Mr. Charney said assets in nontraditional bonds have doubled in two years despite the fact that a badly timed decision by fund managers could mean trouble.
“It’s a small leap of faith, but I think investors take more solace in that than the manager not having that ability,” he said.
The funds are not getting universal praise.
“If you look at the data, whatever the medium-term funds are doing is doing just as well as the unconstrained funds,” said Robert Huebscher of the publication Advisor Perspectives, who looked at the funds’ performance from 2011 to 2013.